Time to Get “Radical” for Emerging Market Central Banks

Fearing the destructive power of capital outflows.

Bank of Mexico Governor Augustin Carstens doesn’t always mince his words in public. In April last year, he went where no senior central banker had ever dared go, by openly questioning the sustainability – even the wisdom – of the loose monetary policies favored by certain central banks. But things have changed a great deal since then, especially for emerging economies like Mexico.

“Last year was a terrible year, probably worse than 2009,” the head of Mexico’s central bank told a conference of central bankers in Paris on Tuesday. It was the first year since 1988 that emerging markets saw net capital outflows, according to the Institute of International Finance, a Washington-based association of global banks and finance houses.

In December more than $3.1 billion fled emerging market funds. If anything, the New Year has been worse.

“I don’t have any data yet for the first week of 2016 but it’s probably going to be very, very, very bad,” Carstens said. If conditions do not improve, he warned, central banks in emerging markets may have little choice but to adopt a more “radical” approach to monetary policy, including intervening in domestic bonds and securities markets.

“We might have to be market makers of last resort, in our own local markets, not very different from what advanced economies did at the time of the crisis,” Carstens said. To use central banking vernacular, the time has come for emerging market economies to become “unconventional.”

“I would like to avoid this, but given the fact that the stock adjustment might be so violent, given the sheer size of the (flows), there might be no other alternative,” Carstens added.

It’s not hard to understand the central bank governor’s concerns. The day before his speech, the Mexican peso slipped to a new record low against the US dollar, having lost almost 50% of its value since the global financial crisis began in 2008. To rub salt in the wound, the price of the Mexican oil mix has collapsed 77% since mid-2014 while the levels of dollar-denominated debt Mexican companies issued are at a historic peak.

But Mexico is not nearly as vulnerable to the economic shocks buffeting the world as many other emerging or developing economies. On Monday, the central bank of oil-dependent Nigeria, Africa’s largest economy, was forced to halt dollar sales to non-bank foreign exchange operators in a desperate bid to shore up dwindling foreign reserves. The sale of foreign exchange to bureaus de change was using up the country’s foreign reserves for illegal transactions and selling the dollar at 250 naira compared to the official central bank rate of 197 naira.

Nigeria is not alone: if conditions continue to deteriorate, growing ranks of countries face a fate far worse than that suffered by the world’s more advanced economies at the beginning of the Financial Crisis. Unlike the rich economies of North America, Europe, and the Pacific Rim (Australia, New Zealand, Japan), most countries in Africa, Latin America, and large parts of Asia have neither the resources nor the social safety net to blunt the economic carnage or mitigate the humanitarian crisis that will inevitably result from a massive economic contraction.

Even the Bank of Mexico, with its $170 billion in foreign exchange reserves, would struggle to contain the fallout.

But Carstens and his fellow central bankers have an answer up their sleeves: “an international safety net,” as proposed by none other than the IMF (who better to turn to in your time of need?). Such a fund is “relatively urgent” for some countries, Carstens warned. One assumes that includes Nigeria.

As for Mexico, just over a year ago, its government renewed a $70-billion credit line with the IMF. Merely meant as a “precautionary measure,” the “flexible credit line” purportedly has no strings attached and is only reserved for countries that have shown themselves capable of consistently applying “solid economic policies” – in other words, following the IMF’s every order, something the Mexican government has done with aplomb.

But even if the central bankers’ hastily convened committee to save the world does somehow save the world — a big job, given the sheer scale of the problem they themselves largely created by flooding the world with trillions of dollars of easy-come-easy-go currency — there are always strings attached. As we know from recent history, for those countries to be “saved,” the pain is about to get a whole lot worse. By Don Quijones,Raging Bull-Shit.

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17 comments for “Time to Get “Radical” for Emerging Market Central Banks”

GLEN

Jan 13, 2016 at 9:43 am

This does not even begin to address the peripheral ghost interventions Internationally. Within this constructs parameters collapse is inevitable. It is leveraged out. America led the way with a cascading economic policy that will in all probability collapse the International economic system. The only viable solution. A NEW CONSTRUCT. ONE w/o all the NATIONALISTIC INCENTIVES. AMERICA could incrementally start said constructs introduction NOW ! So that they could CASCADE!! NEED tangibles? Ask

Nicko

Jan 13, 2016 at 12:58 pm

Too much drama. Worst case scenario, several governments may collapse, and several countries will default on their debt…but the world will keep turning.

Petunia

Jan 13, 2016 at 10:30 am

It seems to me that the answer to a strong central bank in Mexico is to legalize the drug trade. Right now other money havens are benefiting from the cash which would readily return to Mexico if it weren’t being diverted. This would improve the economy, strengthen the government, and even solve the illegal immigration problem for the US. It might even be the right time to so considering how weak the US is right now.

I’ve just reviewed the financial sections of there major newspapers for the 23rd of January 1939, and all was well. Sydney Herald did mention that there had been a slackness for several days, but there was evidence of a steadier feeling. So, cheer up.

Markar

Jan 13, 2016 at 11:06 am

Perhaps emerging countries should revert to the novel idea of backing their currency with something tangible instead of increasingly worthless US Treasuries. In the case of Mexico, that could be silver–real money, as Hugo Salinas Price has been advocating for decades.

Ptb

Jan 13, 2016 at 12:08 pm

I’ve been watching the peso:usd rate for a few years and it something to behold. Just touched 18 pesos to the usd a few days ago. It as about 11 , 3 years ago.
I thought this was the wet dream of every CB?
I guess they want a little devaluation, not a lot.

The problem is their foreign-currency denominated debt (gov and corp). When the peso plunges against those currencies, it becomes nearly impossible to service that debt. So you get a debt crisis, and perhaps a financial crisis, which has happened plenty of times before, including the “Tequila Crisis” in Mexico and the ” Asian Financial Crisis” that hit countries like Thailand.

John Doyle

Jan 13, 2016 at 3:52 pm

EXACTLY!!! Foreign denominated debt is a cancer on national economies. What the Mexican Governor has to say is”do not borrow in foreign currencies” First up it’s not necessary as any sovereign government can always pay the going exchange rate at any given day, without itself going into debt. There is no need to store say dollars unless you can afford to lose them -like an investment or a gamble.
Second, no sovereign government needs to borrow. Its own currency will pay for everything. It can never go bankrupt in its own money! It can create payments at any and every time to pay its creditors. If they are foreign then it converts its payments into that nation’s currency any and every day, and at NO COST to “taxpayers”
No taxpayer money is used for central government spending. Just ask Ben Bernanke.

Ptb

Jan 13, 2016 at 5:56 pm

So they took out loans in USD due to the low interest rate and now they’re getting killed on the currency exchange?

nick Kelly

Jan 13, 2016 at 6:27 pm

Indeed it can’t go bankrupt- if it produced everything it needed.
All African countries have their own currencies, and most are so broke you can only phone collect from them.
This is the thing people don’t understand about Russia. Incredibly it isn’t self sufficient in oil and gas field equipment- Gazprom has been importing it and had to hit up the central bank for a loan to cover its dollar debts.

John Doyle

Jan 13, 2016 at 8:24 pm

It doesn’t have to produce everything it needs. I don’t think today that is remotely possible. But it does have to buy foreign currency to pay for imports. In actual fact that is possible without using any so called taxpayer dollars. The CB simply credits the exchange account with the equivalent local currency. So it gets the goods and gives numbers in accounts as exchange. Sounds solid to me!
The local economy might be small, but if it promptly always paid up it’s credit rating would be high, even into the A’s. And it should offset some of the perceived cost by exporting back to the country which supplied the imports. i.e., normal trade.

Uncle Frank

Jan 13, 2016 at 2:28 pm

Consumer prices in Mexico increased 2.13 percent year-on-year in December of 2015, slowing from a 2.21 percent rise in the previous month and the lowest inflation rate on record. The central bank of Mexico said it expected the inflation to end the year around 2 percent, before rising to near the bank’s 3 percent target in 2016.

American retirees residing in Mexico are having a good time with the 18 to 1 exchange rate.

TheDanimal

Jan 13, 2016 at 5:28 pm

Mexico just needs to issue more 100yr euro denominated bonds, then trade those euros for precious metals.

nick kelly

Jan 13, 2016 at 6:30 pm

Good luck with that. The appetite for Mexican bonds ain’t what it used to be.

prepalaw

Jan 14, 2016 at 8:50 am

When the Fed adopts negative interest rates as the last untried measure to fix everything, the prices of existing sovereign bonds will soar.